Chia C. Li
George H. Loh
Table of Contents
Best Buy: Our Brands Make Life Fun and Easy 1
Company Leaders 4
Business Segments 7
Industry Pie Chart 11
Financial Ratios 12
Share Price 18
Trading Volume 18
Market Capitalization 19
Holding Period of Return 19
Free Cash Flow and the Cost of Equity 20
Discounted Cash Flow 21
Market Efficiency 22
Risk Analysis 24
Cost of Capital and Optimal Capital Structure 25
“Our Brands Make Life Fun and Easy.”
Best Buy Co., Inc. is an innovative Fortune 100 growth company that
continually strives to create superior customer experiences. Through more
than 820 retail stores across the United States and in Canada, our employees
connect customers with technology and entertainment products and services
that make life easier and more fun. We sell consumer electronics, home-
office products, entertainment software, appliances and related services. A
Minneapolis-based company, our operations include: Best Buy
(BestBuy.com), Future Shop (FutureShop.ca), Geek Squad
(GeekSquad.com) and Magnolia Audio Video (Magnoliaav.com). We
support our communities through employee volunteerism and grants from
The Best Buy Children's Foundation.
“To transform into a
enterprise focused on
Fiscal 2005 Goals
o To increase revenue by 11 to 13 percent by opening 70 new stores.
o To increase diluted earnings per share by 15 to 20 percent.
o Implement customer centricity in up to 110 additional stores.
o To emphasize more customer service through the supply chain and
customer contact centers.
o Expand value in the Geek Squad through rapid response.
o To upgrade and renovate existing stores to a more competitive level.
Era 1: Humbling Beginnings
Milestone: “The Journey Begins”
In 1966, Richard Schultz and a business partner opened the ‗Sound of Music‘ store in St. Paul,
Minnesota. In the first year of business, Sound of Music grossed $173,000 in sales. Sound of Music began
issuing its stock in 1969 and compensated employees with the first employee stock option plan. The first
$1 million annual revenue was hit in 1970.
Era 2: Growth and Challenge
Milestone: “The Tornado Sale”
Sound of Music moves its headquarters to Bloomington, Minnesota. In 1978, Sound of Music has
a total of nine stores in the Minnesota area. It began to sell video products instead of just music products.
In 1981, a tornado hits Roseville, Minnesota and Sound of Music responds with a ―Tornado Sale‖
introducing low prices for quality electronics.
Era 3: Forging New Paths
Milestone: “Enter the Superstore, What‟s in a Name?”
In 1983, Sound of Music‘s board of directors changes the company name to Best Buy Co., Inc.
and opens the first superstore in Burnsville, Minnesota. Major expansions occur with 12 more opening and
Best Buy debuts on the NYSE as BBY.
Era 4: Unprecedented Growth
Milestone: “A Novel Concept”
In 1990, Richard Schultz in named ―Retailer of the Year‖ by Consumer Electronics Magazine.
Best Buy begins to enter other major cities such as Texas and Chicago. In 1994, Best Buy Children‘s
Foundation is established in a way to make a difference in the community.
Era 5: Reaching New Heights
Milestone: „”Forbes, „Company of the Year‟”
In 2000, Best Buy penetrates online shopping through Bestbuy.com. Fortune Magazine names
Best Buy as one of the top 10 performing stocks since 1990. Best Buy acquires Magnolia Hi-Fi in the same
year and enters the International market in 2001 through the acquisition of Future Shop in Canada and
opening a Best Buy in Canada. In 2004, Forbes names Best Buy ―Company of the Year.‖
Age Salary Shares Yrs w/company
Richard M.Schulze 63 $1.01M 46,961,302 38 yrs.
Founder of Best Buy.
Officer and director from 1966 and currently is
Chairman of the Board.
Relinquished the duties of Chief Executive Officer,
and office he had held since Feb. 1983.
A trustee of the University of St. Thomas, chairman of
its Executive and Institutional Advancement
Committee, and chairman of the board of governors of
the University of St. Thomas Business School.
Bradbury H. Anderson 54 $3.18M 1,232,355 31 yrs.
Director since August 1986.
Currently the Vice Chairman and Chief Executive
Serves on the board of trustees of Minnesota Public
Allen U. Lenzmeier 60 $1.79M 1,1671744 20 yrs.
Director since February 2001.
Currently the President and Chief Operating Officer.
Prior to his promotion to his current position, he served as President of Best Buy
Retail Stores from 2001 to 2002 and as Executive Vice President and Chief
Financial Officer from 1991 to 2001.
Michael P. Keskey 49 -- -- 16 yrs.
Joined Best Buy in 1988.
Named President – U.S. Retail Stores in April 2004.
Previously served as President – Best Buy Retail Stores since March 2002.
Served as Executive Vice President – Retail Sales from 2001-2002 and as Senior
Vice president – Retail Sales from 1997-2001.
Age Salary Shares Yrs w/company
Darren R. Jackson 39 $3.09M -- 4 yrs.
Named Executive Vice President – Finance and Chief Financial Officer in April
Joined Best Buy in 2000 as Senior Vice President – Finance and Treasurer and
was promoted to Chief Financial Officer in 2001.
Prior to his current position, he served as chief financial officer of the Full-Line
Store Division at Nordstrom, Inc. from 1998-2000 and as chief financial officer of
Carson Pirie Scott & Co. Inc.
Brian J. Dunn 43 -- -- 19 yrs.
Named Executive Vice President – Retail Sales in March 2002.
Joined Best Buy in 1985 and has held positions as Senior Vice President,
Regional Vice President, regional manager, district manager and store manager.
Shares Outstanding 328.00 Mil
Institutional Ownership (%) 71.1
Top 10 Institutions (%) 30.24
Mutual Fund Ownership (%) 31.76
5%/Insider Ownership (%) 18.68
Float (%) 81.32
Source: History Information: http://bestbuymedia.tekgroup.com
Board of Directors and Officers: Fiscal 2004 Annual Report
Best Buy‘s 5%/Insider Ownership is 18.68%. It is considerably high for a
corporation of Best Buy‘s magnitude. If an inside owner were to suffer from death,
bankruptcy, etc. this could adversely effect the company.
Can the company board be improved?
The top officers for Best Buy Co., Inc. are Bradbury H. Anderson, Richard
Schulze, Allen Lenzimeier, Brian Dunn and Darren Jackson.
Susan S. Hoff (Senior VP and Chief Communications Officer) and Richard
Schulze (Founder and Chairman of the Board) are the only relatives in the company.
Mr. Bradbury H. Anderson is the current CEO. He was the former COO and
President of the company. He is the member of mostly communication specialized
association and committees. Mr. Richard Schulze is the founder of the company. He is
currently the Chairman of Best Buy. He was formerly the CEO but stepped down from
his position. Schulze is involved with leadership and management associations. Allen
Lenzmeier is the current COO. He was the former President for retailing. He is involved
with mostly religious groups. Darren Jackson is the current CFO of Best Buy. He has a
strong financial background. He was former CFO of Nordstrom. He also has 15 years
retail experience. Brian Dunn is the Executive VP of retail and sales. His former
experiences with Best Buy Co. involves mostly managerial positions with the region,
district and store.
The problem that Best Buy was having with its false inflated stock prices points
can be assumed that the there was a lack of knowledge in the area of financial
management. Darren Jackson, being the only officer with the experience in Best Buy‘s
finances has put the company on dangerous grounds under the law. All other board
members have interests or specialize in either communications, retail or management.
There is no other member of the board with a financial background other than Darren
Jackson. It would be a recommendation that they place a few more people with more
knowledge of retail finance on the board to prevent issues like artificially inflated stock
prices from happening again and causing the company to have irregularities in financial
trends due to non-market forces.
Best Buy Domestic revenue increased 15% since fiscal 2003. Slightly more
than half of the revenue increase for fiscal 2004 was due to new stores added in
the past two years. The remainder of revenue increase was attributable to the
7.4% comparable store sales gain that was driven by an improved economic
environment, including increased consumer confidence; demand for, and
increased affordability of, digital products; and effective advertising and
Best Buy International revenue increased 41% since fiscal 2003. The effect
of changes in foreign currency exchange rates accounted for approximately half
of the revenue increase for the fiscal year.
U.S. Best Buy (608 Stores)
U.S. Best Buy stores offer merchandise in four product categories: consumer
electronics, home office, entertainment software and appliances.
Dom estic Product Revenue Mix
Entertainm ent Softw are 22%
Hom e Office 35%
Consum er Electronics 37%
0% 10% 20% 30% 40%
Consumer electronics, the largest product category for fiscal 2004 based on
revenue, consists of video and audio products. Video products include:
televisions, digital cameras, DVD players, digital camcorders and digital
broadcast satellite systems. Audio products include: car stereos, shelf systems
and speakers, home theater audio systems, portable audio equipment, audio
components and mobile electronics.
Home office category includes desktop and notebook computers and related
peripheral equipment, telephones, cellular phones and MP3 players.
Entertainment software products include DVD movies, video game hardware
and software, compact discs and computer software.
Appliance category includes major appliances as well as vacuums, small electric
Magnolia Audio Video (22 Stores)
Magnolia Audio Video was founded 50 years ago and became a part of the Best
Buy company in 2000. It has been named ―Retailer of the Year‖ by Audio Video
International for 22 consecutive years. Magnolia Audio Video stores are typically
managed by a store manager, and audio/video sales manager and, if the store contains
mobile products, a mobile electronics sales manager. For fiscal 2004, Magnolia Audio
Video retail stores generated average revenue of approximately $6.5 million per store.
Magnolia Audio Video
Product Revenue Mix
Consumer Electronics 97%
Home Office 3%
0% 20% 40% 60% 80% 100%
Magnolia Audio Video stores offer merchandise in two product categories: consumer
electronics and home office. Consumer electronics was the largest product category for fiscal
2004 based on revenue.
International Product Revenue Mix
Consumer Electronics 39%
0% 10% 20% 30% 40% 50%
International segment consists of two sectors: Best Buy Canada and Future Shop. Home
office was the largest product category for fiscal 2004 based on revenue.
Best Buy Canada (19 Stores)
Best Buy in Canada is a subsidiary of Best Buy Co., Inc. It specializes in
electronics, computers, and entertainment software in Alberta, Manitoba, and Ontario.
Future Shop (108 Stores)
Future Shop has over 100 stores across Canada and grows continuously in
retailing and e-retailing of electronics. It employs more than 8,500 associates in its stores
as they offer a wide line of products such as televisions, computers, appliances,
entertainment software, and audio.
INDUSTRY PIE CHART:
2% 11% 4% 1%
Best Buy Co., Inc. Circuit City Stores, Inc.
Conn's Inc. Electronics Boutique Holdings Corp.
GameStop Corp. RadioShack Corporation
Tweeter Home Entertainment Group Inc. Ultimate Electronics, Inc.
Industry pie chart shows the top 8 industries in Service Retail (technology) sector.
Best Buy generated most sales at 53%, and followed by Circuit City at 23%.
TTM Sales 3 Yr. Sales Growth 5 Yr. Sales Growth
Ticker Name $ Rate% Rate%
BBY Best Buy Co., Inc. 23,681.000 17.35 19.52
CC Circuit City Stores, Inc. 10,154.004 -1.92 .84
CONN Conn's Inc. 548.392 15.12 16.10
Electronics Boutique Holdings
ELBO 1,851.935 25.66 21.73
GME GameStop Corp. 1,759.447 27.78 27.69
RSH RadioShack Corporation 4,841.200 .46 3.25
Tweeter Home Entertainment
TWTR 789.433 12.95 22.72
ULTEQ Ultimate Electronics, Inc. 705.708 13.74 16.73
Growth Rates(%) Company Industry S&P 500
Sales (MRQ) vs Qtr. 1 Yr. Ago 10.18 10.34 16.82
Sales (TTM) vs TTM 1 Yr. Ago 14.03 11.72 15.49
Sales - 5 Yr. Growth Rate 19.52 14.68 9.66
EPS (MRQ) vs Qtr. 1 Yr. Ago 20.87 16.97 22.14
EPS (TTM) vs TTM 1 Yr. Ago 30.76 27.84 27.64
EPS - 5 Yr. Growth Rate 28.77 23.63 13.44
Capital Spending - 5 Yr. Growth Rate 26.84 21.54 -18.55
At a first glance, Best Buy appears to be following the industry very closely in
relation to sales growth (MRQ vs Qtr. 1 Yr. Ago). Furthermore, this short term
measure might lead one to believe the company‘s sales are deficient when
compared to the S&P 500. However, TTM sales growth for Best Buy is well above
the industry by about 2.3% and much closer to the market average than its MRQ
sales growth. Also, according to five-year historical data, the sales growth rate (5
Yr. Growth Rate) for the company is roughly 5% higher than the industry average
and double that of the S&P 500. This may indicate that Best Buy has had a
relatively weak sales quarter, but its overall sales growth health remains quite
Similarly, the company maintains fairly solid EPS growth (TTM) by staying about
3% ahead of both the industry average and the S&P 500. Its five-year growth is
even more impressive with EPS being ahead by roughly 5% of the industry and
more than double the S&P. Although its recent quarter‘s EPS growth is slightly
lower than the market average by 1.3% (but still above the industry by 4%), this
limited measure seems inconsequential when compared to Best Buy‘s strong annual
and past five-year growth, which results in it having an overall EPS growth that is
*According to this in-depth analysis of Sales Growth and EPS Growth, it appears that
Best Buy has relatively healthy growth rates and the potential for higher growth rates in
future periods. OVERALL GROWTH RATES GOOD
Price Ratios Company Industry S&P 500
P/E Ratio (TTM) 32.43 29.35 22.08
P/E High - Last 5 Yrs. NA 47.80 41.96
P/E Low – Last 5 Yrs. NA 13.27 15.71
Price to Sales (TTM) 0.72 0.71 3.05
Price to Book (MRQ) 4.28 4.17 4.04
Price to Cash Flow (TTM) 18.16 15.68 16.54
Since companies‘ Price/Earnings ratios vary enormously across industries, it is
considered inappropriate to compare the P/E of a single company to the market
average (S&P 500). Thus, we must compare this ratio to a suitable benchmark—the
respective industry average. Best Buy‘s P/E ratio is slightly higher than the
industry average, but this should not bear too much significance. It seems as
though Best Buy‘s value in terms of price over earnings is only marginally more
costly than a typical company within the industry. Consequently, the company‟s
P/E ratio should be rated Fair.
Furthermore, although Best Buy‘s Price/Sales ratio is significantly less than the
S&P 500‘s 3.1 (which could be considered very good to the investor), it is virtually
identical to the industry average at 0.7. This P/S ratio is a limited measure anyway,
as it doesn‘t take either expenses or debt into consideration. When appropriately
compared to the industry (as P/E ratio was), P/S ratio is considered Fair.
*According to this in-depth analysis of P/E Ratio and P/S Ratio, it appears that Best Buy
has relatively fair price valuations and is not a significantly overvalued company.
OVERALL PRICE RATIOS FAIR
Profit Margins (%) Company Industry S&P 500
Gross Margin (TTM) 25.17 29.63 46.45
Gross Margin - 5 Yr. Avg. 22.10 27.36 45.41
Pre-Tax Margin (TTM) 3.59 4.73 18.15
Pre-Tax Margin - 5 Yr. Avg. 4.83 5.14 17.06
Net Profit Margin (TTM) 2.22 2.94 14.11
Net Profit Margin - 5 Yr. Avg. 2.97 3.14 11.37
Both current and historical five-year gross margins for Best Buy lie a bit below that
of the industry‘s mean gross margins. Current gross margins are approximately
4.5% less for Best Buy when compared to the industry. Although the current and
historical gross margins of the S&P 500 are about two times that of both Best Buy
and the industry, this simply indicates that the retail (technology) industry is most
likely not as profitable as the general market. When appropriately compared to its
specific industry, Best Buy‟s gross margin is relatively Weak.
Pre-tax and Net Profit Margins
In a similar method of relative measurement, pre-tax margins and net profit margins
for the company have generally lagged behind the industry‘s standard for the past
five years and even more so in the past twelve months. Summarily, pre-tax and
net profit margins remain Weak.
*According to this in-depth analysis of Gross, Pre-tax, and Net Profit Margins, it appears
that Best Buy has relatively weak profit margins and must rely more on factors such as
higher asset turnover to achieve higher sales. OVERALL PROFIT MARGINS
Investment Returns (%) Company Industry S&P 500
Return On Assets (TTM) 9.17 8.89 7.41
Return On Assets - 5 Yr. Avg. 9.50 8.61 6.67
Return On Investment (TTM) 19.46 17.19 11.19
Return On Investment - 5 Yr. Avg. 19.98 16.97 10.54
Return On Equity (TTM) 23.33 21.88 19.33
Return On Equity - 5 Yr. Avg. 25.43 24.01 18.76
Return on Investment
Evidently, the company‘s return on investment nearly doubles the S&P‘s average
showing a greater comparative profit on its investment transactions. Relative to the
industry, ROI is still attractive as it remains a good 2.3% higher. Overall, return
on investment is Very Good.
Return on Equity
It seems as though Best Buy‘s return on equity has outpaced both the industry and
market for the past five years. More specifically, in the recent twelve months, the
company‘s ROE is about 1.5% above the industry average, and exactly 4% above
the S&P 500. This indicates that Best Buy has been able to consecutively yield
investors a higher return on their contributed equity to the firm. Best Buy‟s return
on equity is Good.
*According to this in-depth analysis of Return on Investment and Return on Equity, it
appears that Best Buy has above average investment returns and remains an attractive
investment for potential stockholders seeking higher ROEs. OVERALL
INVESTMENT RETURNS VERY GOOD
Financial Condition Company Industry S&P 500
Quick Ratio (MRQ) 0.47 0.49 1.19
Current Ratio (MRQ) 1.21 1.41 1.71
LT Debt to Equity (MRQ) 0.12 0.22 0.52
Total Debt to Equity (MRQ) 0.12 0.26 0.76
Interest Coverage (TTM) 35.13 30.57 12.63
Total Debt to Equity/LT Debt to Equity
Total debt to equity of 0.12 is less than half that of the industry average of 0.26 for
Best Buy. This figure is less than one sixth the S&P average. Moreover, the
company‘s LT debt to equity exhibits almost identical results. Evidently, Best Buy
relies on debt to a much lesser extent than either the industry or market. In essence,
this fact allows Best Buy to maintain lower levels of debt-related expenses and
liquidity risks. It seems as though the company‟s significantly lower total debt to
equity ratio (and LT debt/equity) should be considered EXCELLENT.
Current Ratio/Quick Ratio
Although the company‘s current ratio is somewhat lower than the industry average,
they should easily be able to meet the demands of current liabilities with current
assets as it is well-above 1.0. In addition, quick ratio is virtually the same as the
industry average at 0.5, but much lower than the S&P‘s 1.2. This simply means that
Best Buy (and its respective industry) tends to maintain higher inventories than the
overall market. This is necessary for firms such as Best Buy. Furthermore, for a
firm as large as Best Buy, this ratio doesn‘t seem to bear much weight as the
company should not be in danger of needlessly liquidating its inventory. Thus,
current and quick ratios, when taken in the proper context, are relatively
*According to this in-depth analysis of Total Debt to Equity/LT Debt to Equity and
Current Ratio/Quick Ratio, it appears that Best Buy is in relatively good financial
condition. OVERALL FINANCIAL CONDITION GOOD
Management Efficiency Company Industry S&P 500
Revenue/Employee (TTM) 236,810 230,243 714,102
Net Income/Employee (TTM) 5,260 6,168 96,111
Receivable Turnover (TTM) 52.92 47.21 10.15
Inventory Turnover (TTM) 5.32 4.69 12.18
Asset Turnover (TTM) 2.53 2.46 0.93
Best Buy maintains a receivable turnover that is approximately 12% higher than the
industry average and over five times the S&P 500 benchmark. This indicates that the
company is very efficient at collecting debts from extended credit. Consequently, this firm
deserves a receivable turnover rating of Very Good.
Inventory turnover remains favorable when compared to the industry, with a marginal lead
of about 0.6. However, inventory turnover is less than half of the S&P 500, indicating that
Best Buy holds their inventory twice as long as a typical market firm. Since inventory
turnover should be compared to only the industry average, it is not fair to say that inventory
turnover is weak for Best Buy. Thus, in light of the aforementioned fact, Best Buy‟s
inventory turnover is Fair.
The company‘s asset turnover is only slightly higher than the industry, but over two and a
half times as large as the market average. Compared to the market, it would appear that
Best Buy uses its assets much more efficiently to generate revenues. However, the
reason why asset turnover is so high in comparison to the market is because its profit
margins are so much lower. Taking this into consideration, Best Buy‟s asset turnover is
*According to this in-depth analysis of Receivable Turnover, Inventory Turnover, and Asset
Turnover, it appears that Best Buy has relatively very good management efficiency with strong
receivable and asset turnover. OVERALL MANAGEMENT EFFICIENCY VERY GOOD
***According to this analysis of the multiple facets of Best Buy’s financial
position, the company should be considered in OVERALL GOOD financial
health with very good investment returns and management efficiency, good
growth rates and financial condition, fair price valuation ratios, and somewhat
weaker profit margins which can be offset with its higher volume of sales due
to factors such as higher asset turnover.
As of the end February 2005, the share price of Best Buy was $51.69. This face value alone does
not provide much insight into the value of the stock, however, and further comparison is
necessary. In order to provide a more useful reference, we could compare Best Buy‘s share price
appreciation/depreciation to the price fluctuations of the S&P 500 index.
Evidently, Best Buy‘s stock price has remained well above the S&P 500 index for the better part
of the last five years. Currently, Best Buy‘s stock price is outpacing the S&P by an average of
about 50-60%. Furthermore, current trading volume is 2,868,600 while average trading volume
for the past three months is 3,267,454. This stock seems relatively liquid according to the steady
trading volume for the past five years.
TOP RETAIL (TECHNOLOGY) COMPANIES BY MARKET CAP
Company Symbol Price Change Market Cap P/E
Best BUY Co Inc BBY 51.69 +0.56% 16.96B 32.43
Radioshack Corp RSH 29.70 +0.78% 4.70B 14.27
Circuit City Stores Inc CC 15.72 +1.22% 3.01B 46.10
Gamestop Corp GME 19.23 +3.39% 975.67M 17.20
Electronics Boutique Holdings Corp ELBO 37.61 +2.34% 901.29M 17.50
Conns Inc CONN 16.63 +2.46% 385.95M 13.
Chart source at: http://finance.yahoo.com/q/in?s=BBY
Best Buy is the undisputed market leader in terms of market capitalization. It is four
times larger than its closest competitor, Radioshack, in this aspect. However, taking P/E
ratio into account, Radioshack is actually ―cheaper‖ at half the relative cost (P/E of 14.27
FINA4332--Corporate Finance BBY (Best Buy)
2005 (12/31) 2004 2003 2002
. HPR = Ending Price – Beginning Price + Distributions 0.8455 -0.5687
Earnings growth rate estimate (2005) 0.2740
Dividend 0.80 0.4 0 0
Price 66.95 53.25 29.07 67.4
HPR 0.2723 0.8455 -0.5687
In 2005 the Holding Period of Return decreased from 84.55% to 27.33%. Best Buy
didn‘t pay dividend in the years prior to 2004. Holding period return for 2004 increased
so much because the growth rate from 2003 to 2004 stock price increased tremendously.
Free cash Flow and
Cost of Equity
2002~2004 2005 2004 2003 2002 2001
NI $705 $99 $570 $396
(+) depreciation 385 310 242 164
(-) capital Expenditures 541 656 556 626
(-) Change in working capital 27 290 667
(+) Change in long-term debt -346 20 627
FCFE 224.224 176 -517 216
(Mil) (Mil) (Mil) (Mil)
Capital Expenditures 541 656 556 626
Additions to porperty, plant, and equipment 545 725 581 657
(-) Disposition of property and equipment 4 69 25 31
Change in working capital=[(CA 03)- (CA 02)] -
[(CL 03) - (CL 02)] 27 290 667
CA 5724 4989 4611 2929
CL 4501 3793 3730 2715
Change in long-term debt=LTD 03- LTD 02 -346 20 627
LTD 482 828 808 181
The cash flows of a company signify imperative facts about the company while the free
cash flow reveals the sum of money that the company has left over after all capital
expenditures are accounted for. In Best Buy Co. Inc., the cash flow between 2003 and 2004
had a big improvement from negative 517 million to positive 176 million. We use the formula
[FCFE (2005) = FCFE(2004) * (1+G)] to expect in the 2005 the cash flow will increase to
more than 224 million.
Ke(Discounted cash flow (DCF) model):
2005 2004 2003 2002
P0=(FCFE1/Shares0)/(Ke0-G1) FCFE 12/31/2005 224,224,000 176,000,000 -517,000,000 216,000,000
ke0=[(FCFE1/shares0)/P0]+G1 shares outstanding 328,080,000 324,648,000 321,966,000 319,130,000
G1=(FCFE1-FCFE0)/FCFE0 G 12/31/2005 0.2740 1.3404 -3.3935
P 2/26/2005 51.69 53.25 29.07 67.40
Ke 0.2872 0.2870 1.3592 -3.4176
.ke(Constant dividend growth model)
Po=D1/(ke-G)=>Ke=(D1/Po) +G 1.0150 0.0000 0.0000
EX: Ke2001=(D2002/P2001)+g2002; D2002=D2001(1+g2002); g2002=(D2002 - D2001)/D2001
In 2005, the stock has a return of 28.72%.
The backed out estimate of the discount rates are unrealistic. In 2003 Best Buy Co., Inc.
was hit with a lawsuit stating that the stock prices were artificially inflated. Best Buy was
convicted and had to repurchase a large sum of its own stock. The drastic decrease in the
NI along with the negative FCFE give evidence of Best Buy repurchasing its own stock.
However in relation with the discount rates, a useful estimate of the discount rates cannot
be determined by using the current method due to sudden drop in the FCFE by a force
that was not market related.
We cannot use the Ke from dividend growth model in later calculations because Best Buy
did not pay any dividend prior to 2004.
COMPANY SPECIFIC EFFECTS
Maytag Posts 4th-Quarter Loss of $14.1M
Friday January 28, 4:45 pm ET
By David Pitt, Associated Press Writer
Maytag Reports Fourth-Quarter Loss of $14.1 Million on Charges, Lower
Hoover Sales and Margins
DES MOINES, Iowa (AP) -- Maytag Corp. swung to a fourth quarter loss of $14.1 million, amid
reduced sales of its Hoover floor care equipment, higher steel and energy prices and restructuring costs, the
company said Friday.
The appliance manufacturer's loss, equivalent to 18 cents a share, compares with a profit of $23.9
million, or 30 cents a share, a year ago.
Sales for the quarter fell 8.4 percent to $1.16 billion, compared with $1.27 billion for the same period last
Excluding one time charges for restructuring, the closing of a refrigerator plant and the costs of
settling a lawsuit related to early models of the Neptune front-load washer, the company would have
reported a profit of 8 cents a share. On that basis, analysts surveyed by Thomson First Call expected fourth
quarter earnings of 17 cents a share.
The company also lowered its earnings guidance for 2005 to $1.10 to $1.30 per share, including about 5
cents for restructuring charges. Previous guidance was between $1.50 and $1.60 including restructuring.
The lower expectations were due to lower revenue generation in the fourth quarter and an
end to sales of major appliances through Best Buy Co. retail stores, which was announced
earlier this month.
SYNOPSIS: The drop in stock price of Best Buy from 01/26 – 01/31 is due to the discontinuation of Maytag
appliances being sold at all Best Buy outlets. This announcement was made on January 28, 2005. We can
see a WEAK FORM in market structure for Best Buy during the time of 01/26 – 01/31. Insider traders
quickly react during the price decrease before the announcement date and normal traders react after the
announcement of the news.
NON-COMPANY SPECIFIC EFFECTS
Unocal deal underscores changes at Chevron
By Sheila McNulty in Houston
Published: April 13 2005 23:05 | Last updated: April 13 2005 23:05
Despite all the froth over Chinese rivalry for Unocal, the market took a dim view of
ChevronTexaco's $18bn trump last week. The immediate 5 per cent fall in share price reflected
more than the usual technical trade exacted on an acquirer.
Investors saw the impact of the deal as initially neutral to earnings and diluting return on
capital employed (roce). In addition, it fails to expand Chevron's portfolio into new growth areas,
such as liquefied natural gas or oil sands. As a result, they questioned the price being paid.
SYNOPSIS: From this chart you can see that Best Buy’s stock price was negatively affected by
the ChevronTexaco’s acquisition of Unocal. The time of the graph between 4/12 – 4/15 takes on
a WEAK FORM structure. The announcement date of April 13, 2005 reflects inside traders
ability to adjust and react quicker than normal traders.
2005 2004 2003 2002 2001
Beta BBY 2.1528 2.1495 2.2766 2.2602 2.2276
Beta=COV(R BBY, R S&P 500) /VAR
(R S&P 500)
2004 2003 2002 2001
0.1870 0.4360 0.2791 1.5310
Equity 3422 2730 2521 1822
Debt 5230 4933 4854 3018
Income from Continuing operations
1296 1014 926 649
before income taxes
Provision for income tax 496 392 356 248
Tax rate (T) 0.3827 0.3866 0.3844 0.3821
2005 (4/7) 2004 2003 2002 2001
Rf 0.0219 0.0119 0.0102 0.0163 0.0386
Rm-Rf 0.019 0.1182 0.3206 -0.2261 -0.1497
Beta 2.1528 2.1495 2.2766 2.2602 2.2276
Ke(required return on equity) 0.0628 0.2660 0.7401 -0.4947 -0.2949
Currently the market only requires a 6.28% return on the stock and as we can see the
price is under priced because Ke (DCF model) > Ke (CAPM) ; 0.2872 > 0.0628
COST OF CAPITAL AND
OPTIMAL CAPITAL STRUCTURE:
5. Cost of Capital and Optimal Capital Structure: 2004 2003 2002
We= Equity/(Equity+Debt+Preferred Stock) 0.3955 0.3563 0.3418
Wd=Debt/(Equity+Debt+Preferred Stock) 0.6045 0.6437 0.6582
Wp=Preferrd stock/(Equity+Debt+Preferred Stock) 0.0000 0.0000 0.0000
Ke 0.2870 1.3592 0.3000*
Kd 0.0298 0.0293 0.0285
Kp 0.0000 0.0000 0.0000
WACC=We*Ke + Wd*kd*(1-T)+ Wp*Kp WACC 0.1246 0.4958 0.0457
For the determination of Best Buy‘s Weighted Average Cost of Capital(WACC), hypothesized
return on equities(Ke) had to be used for 2002 (30%). To estimate Ke for 2002, we compared the
Wd for 2002 and 2004. The reason for this is that in 2002 the company produced a negative
return, which is unacceptable for a WACC calculation, and we can‘t use the dividend growth
model because Best Buy didn‘t pay any dividend prior to 2004.
Best Buy‘s capital structure remained relatively stable within three years. Its Weighted
Debt to Equity ratio has little variation in the past three years.
M & M PROPOSITION
0.6582 0.6437 0.6045
From the M & M Proposition graph above, Best Buy follows Model 3 of the MM model,
which is the approach with tax, agency costs, and finance distress costs. The max firm
value is at 49.58%. At year 2002 to 2003 Best Buy‘s WACC rises and falls from 2003
to 2004. Therefore, the value of the firm follows the opposite pattern.
Strengths and Weaknesses
In the U.S. Best Buy is the undisputed industry leader in the retail technology industry
in terms of market capitalization and total sales revenue. No other competitor comes
close in these regards. For instance, in terms of market capitalization, Best Buy
maintains an impressive $16.96 billion standing, while its closest competitor (market cap-
wise) Radioshack only has about one fourth of that. Furthermore, Best Buy maintains
annual sales of $23.681 billion while its closest sales competitor Circuit City generates
less than half of this.
Another growing strength of Best Buy‘s is the fact that they are using a portion of
their current cash flows to pay off large amounts of debt and refraining from issuing
significant amounts of new debt therefore improving their capital structure. This is
evidenced by the fact that current Total Debt/Equity ratio is a mere 0.12 (check financial
ratios) compared to the hefty debts of the past three years which averaged about 60% of
The aforementioned EPS growth (check financial ratios) of Best Buy continues to take
the lead over industry and market averages, and as a large growth firm, will most likely
continue to do so into the next year. Also, currently improving/increasing FCFE is a
good indicator of growth for stockholders.
Weaknesses include the fact that at a Beta of 2.15, Best Buy incurs over two times the
systematic risk of the market, and is a bit higher than the industry average of 1.9. As
most investors are risk adverse, this high volatility may not be a good thing. Also, the
company heavily relies on higher sales volume than the typical market firm because its
profit margins are considerably lower (check financial ratios). However, this may not be
too much of a concern if it keeps its asset turnover rate higher than the market (indicating
it does have the capacity to generate higher-than-market sales).
Also, a concern about corporate governance and its competency in financial matters is
present. Darren Jackson, current CFO, is the only board member who has a background
in finance while the other board members specialize in communications, retail or
management. It would serve Best Buy well to gain acquire more financial expertise to
improve their balance sheet and cash flows and to avoid inflated stock prices or react
quickly to them (see company leaders section).
Best Buy Co., Inc.: Analyst Ratings
Recommendations Current 1 Month Ago 2 Months Ago 3 Months Ago
Strong Buy 9 11 11 11
Moderate Buy 4 4 4 4
Hold 7 6 6 6
Moderate Sell 0 0 0 0
Strong Sell 2 1 1 1
Mean Rec. 2.18 1.91 1.91 1.91
Mean Recommendation Conversion Table
Strong Buy: 1.0
Moderate Buy: 1.1 – 2.0
Hold: 2.1 – 3.0
Moderate Sell: 3.1 – 4.0
Strong Sell: 4.1 – 5.0
The Mean Recommendation Average suggests that shareholders should Hold
their stocks, and the majority of the Analysts recommend Strong Buy to Moderate Buy.
These recommendations imply that the value of the stocks will increase in the future.
In lieu of the strengths/weaknesses analysis and analyst ratings, it is our group‘s
recommendation to BUY Best Buy‘s stock (BBY). Our decision is influenced by a
careful understanding that although the near future short term seems highly volatile and
uncertain, the long term potential of BBY as an investment remains promising (much due
to its industry dominance). At a current P/E of 32, Best Buy is closely priced relative to
the industry at a P/E of 29 making it a fair value. Also, with improving FCFE and EPS,
Best Buy seems concerned about building shareholders‘ value and increasing its stock
price for the long run. Moreover, our 28.72% Ke (DCF) > 6.28% Ke (CAPM), indicating
that this stock at its current price is actually under priced and should be bought.
Our group‘s recommendation is also influenced by what the professional financial
analysts are currently recommending. As can be seen in the above analysts‘ ratings table,
9 of 22 analysts recommend a STRONG BUY, 4 recommend BUY, 7 HOLD, and only 2
say to STRONG SELL. We believe our recommendation is relatively conservative as we
issue a regular BUY rating for the long hold (NOT for short term profit taking).